Invoice Funding Helps Service Companies Manage Cash Flow
By Steven Uster
Long payment terms are the norm for the oil and gas industry because buyers need to maintain cash flow. Unfortunately, this leads to a cash crunch for service providers and suppliers, which makes it difficult for them to make payroll, buy equipment, hire contractors or fund big projects that help drive growth.
The situation has gotten worse since the pandemic began, with service providers facing longer payment terms than ever. Previously, the standard ranged from 30 to 90 days. Our recent client data shows oil and gas suppliers are getting paid 23 days later than the standard about 95% of the time. There are even some large buyers in the industry that have been paying as much as 34 days past net terms since the pandemic’s onset. With this growing trend, the simplest solution is to solve the very core of the problem: get invoices paid faster.
Invoice factoring is an alternative finance solution designed to unlock the money suppliers and service providers have earned but that is tied up in accounts receivable. It takes only days to receive funds, fast enough that suppliers can factor invoices whenever a need for extra capital comes up.
Here is how it works: a business owner sells invoices of its choice to a factoring company. The business owner receives cash for the invoice amount, usually less any fees, ahead of the payment terms. The business owner’s customer, who is responsible for paying the invoice, pays the invoice amount to the factoring company according to the original payment terms.
Invoice factoring differs from a loan in that business owners do not have to worry about paying the money back themselves. In addition to enabling quick access to capital, factoring reduces the administrative work that comes with managing accounts receivable for the supplier while enabling the buyer to maintain their net terms.
Invoice Factoring’s Virtues
Invoice factoring is becoming increasingly common in the oil and gas industry largely because of its speed. When service companies spot an opportunity for growth, they can get the cash needed to pursue it within days. Factoring is much easier to qualify for than bank financing, especially for newer businesses that lack a long-term track record.
Rapid access to cash is particularly relevant in today’s environment. With U.S. inflation setting a 40-year record of 9.1% in June and remaining high at 8.5% in July, a trend mirrored in Canada, suppliers and their customers have had to burn through cash. Add in supply chain disruptions, and many customers are asking to extend already-long payment terms. That is understandable, but it can put service companies in a tough spot.
To manage their own cash flow, many service companies have adopted a “first-come-first-served” approach to filling orders. In other words, suppliers are triaging orders based on who can pay the fastest–or even in advance of receiving deliveries.
Invoice funding gives suppliers fast access to funding for any purpose. Often, companies will use it to cover daily expenses or to take the first spot in line for scarce supplies. But in the oil and gas industry, we often see it used to enable growth. For example, general contractors and midstream companies have leveraged invoice funding to take on pipeline projects that otherwise would have been out of reach.
Such opportunities for strategic use are abundant for upstream companies, who often face more painful payment terms. Companies involved in field work, such as setting up drilling rigs, hauling water and chemicals, and performing hydraulic fracturing operations, can turn to invoice factoring to pay for contractors, staff and supplies.
This option is especially beneficial when industry activity ramps up or a project is going well enough that the operator decides to accelerate or add sites to a campaign. Normally, cash flow crunches caused by long payment terms may prevent the upstream service company from fulfilling the request and deepening their relationship with the customer. With invoice factoring, they can frequently secure the necessary resources to support their customer.
For many upstream service companies, invoice factoring is not merely reserved for the occasional cash flow emergency–it’s an integral part of their growth strategy. By funding invoices regularly, they always have cash on hand to bid on big projects and impress both new customers and stalwart supporters by providing quick, high-quality service. Factoring can even boost cash available on service companies’ balance sheets, making it easier to secure equity funding.
Consistently using invoice factoring makes sense because the fees are even less expensive than offering early payment discounts. For example, a 5% discount on a net 30 term invoice comes out to an annual percentage rate of 60%. Meanwhile, invoice factoring may only cost 2.5% every 30 days, or about half as much.
Why Customers Love Factoring
As powerful as invoice factoring is, few suppliers would use it if doing so would compromise their relationships with customers. Fortunately, invoice funding has many benefits for those customers. Most importantly, it gives the supplier the cash to serve customers well today and grow with them without requiring the customer to agree to tighter net terms. Buyers want well-capitalized vendors who can afford to do every job right, retain seasoned employees and invest in innovations that improve both safety and efficiency.
Invoice funding also reduces the time spent managing accounts receivable, freeing the service company and/or supplier to focus their full attention on customers. Those customers also benefit from simpler back-office processes, as invoice funding eliminates the need to handle payment follow-ups from service and supply companies.
These advantages are strong enough that for many large companies, dealing with invoice funding partners has become routine. Smaller companies that are new to invoice funding may hesitate at first, but most will give it a shot if the supplier takes time to explain the benefits. Once customers have used invoice funding, their concerns generally fade, especially if the invoice funding company follows best practices.
Preserving Customer Relationships
Before partnering with an invoice factoring firm, a supplier should examine the firm’s processes for contacting customers. These processes should show that the funder will treat the service provider’s customer relationships with the same care they would apply to their own.
In particular, the invoice funder should:
- Talk with the service provider before contacting customers, including when they ask customers to redirect payment and verify invoices, or when they follow up on overdue invoices.
- Allow the service provider to collaborate on outgoing messages.
- Have alternative policies in place for the rare event when the supplier’s customers cannot pay, such as allowing the supplier to make up the balance by substituting another invoice or creating a payment plan for the customer.
The goal with the alternative payment policies is to give the supplier and the invoice funding company the flexibility to maintain strong relationships with customers. That flexibility is vital, but it’s worth emphasizing how rarely these alternative payment options need to be considered. Invoice funding is affordable largely because of how little risk it presents for the factor.
To make invoice funding even more convenient for service companies and their customers, some factoring companies are partnering with online marketplaces, portals and apps where business-to-business transactions occur to embed financing options in the platform. Once that is done, suppliers can look at their outstanding invoices inside the platform, decide which ones they want to fund, and complete the application in minutes. These actions all occur within the familiar user experience.
Even without such digital integration, invoice funding is a powerful tool. Because they get paid for work quickly, service companies can invest in the people and equipment they need to scale up with customers without compromising quality. Since the customer’s payment terms remain the same, the customer gets to experience fantastic service without losing the flexibility to manage cash flow.
STEVEN USTER is the co-founder and chief executive officer of FundThrough, a financial technology company that has developed expertise in the oil and gas industry and embedded its services into Enverus’ OpenInvoice and WorkBench platforms. Uster has been active in the alternative finance space since 2009. Before FundThrough, he founded Eldridge Capital to provide short-term, asset-backed financing and accounts receivable factoring to small and medium sized companies. He also started Zillidy, a personal asset lender for individuals and business owners. Earlier, Uster was an investment banker in New York at UBS and a founding employee of Centerview Partners.
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